The Netflix Tax Is Coming, and Why Not?

Netflix and bill.

Wavebreakmedia via Thinkstock

Netflix, like Airbnb and Amazon, has thrived on convenience. Initially, at least, all three companies grew by making it easier to get the same old things. They weren’t the first companies to offer movies, rooms, and books. But they made it so, so simple to get them.

Initially, too, they had another advantage: not paying the same taxes as their competitors. After a long fight, Amazon has in the past five years started paying sales taxes in an effort to bring distribution centers closer to consumers. Airbnb has tried to encourage states to collect hotel taxes on its bookings in order to establish its legal legitimacy.

Netflix, Spotify, and the world of online streaming are next.

In 2015, Chicago became the first major city to enact a 9 percent “cloud tax” on digital entertainment services, which the city said would be worth $12 million a year in tax revenue. The move is considered an adaptation of the city’s existing amusement tax, which covers movie tickets, Cubs games, and the like. Now that tax will also be levied on streaming video games and other online entertainment. (Under a separate law, the city also taxes cloud computing services.)

In August, Pennsylvania extended its 6 percent sales tax to cover digital downloads, subscription services, music, e-books, apps, and games.

And in January, Pasadena, California, will join a number of Golden State cities in adopting a “video services” tax that MuniServices, a tax collector for dozens of other California municipalities, says is already permitted under existing law. In Pasadena, for example, the utility user tax suggests that games and streaming services may be taxed “regardless … of the technology used to deliver such services,” according to a city memo.

It’s not just that strapped cities and states have spied an untapped source of revenue. For years, governments have watched the threat to sales taxes as movies, music, books and magazines have all vanished into internet sales. They have attempted to regulate digital commerce accordingly. Dozens of states tax downloads of software, movies, music, or books.

Telecom tax revenue has fallen off a cliff as consumers stop using landlines, as this graphic from the city of Chicago demonstrates.

Now, increasingly, consumers are shifting their entertainment expenditures from monthly cable bills, which are taxed, to online streaming services, which are not. Cable companies have been losing customers since 2013, and the rate of attrition seems to be increasing. That’s bad news for city governments, which collect an average of about $50 per subscriber per year. In some places, it’s much more: Raleigh, Charlotte, Kansas City, and Tallahassee all take in more than twice that much from cable subscribers each year. Cord-cutting, as Whet Moser has suggested in Chicago Magazine, could be about to cut a hole in city coffers.

To compound the problem, broadband is immune from state and local taxation thanks to the Internet Tax Freedom Act. “Telecom revenue is dwindling away because it’s going to broadband,” said Tim Lay, a partner at Spiegel & McDiarmid in Washington, D.C., who represents local governments. “Even if broadband is the telecom of tomorrow, you can’t tax that.”

All that leaves cities and states scrambling to tax those goods and services that have vanished into the web.

So you can see why a streaming tax is an appealing substitute for that lost revenue. But there’s another reason: Streaming services are about the least local way to consume entertainment. Even television—sometimes blamed for the decline of local movie houses, sports attendance, and amusement parks—still funnels dollars toward local newscasters and sports teams. Movie theaters employ dozens of people and often lead moviegoers to bars and restaurants. Paying for live music, theater, and sports puts money into the pockets of local staff and performers.

Netflix, Pandora, Twitch, and the like, by contrast, have no local ties. Taxing them burdens no local businesses (except maybe, like, pizza delivery and the local Ben and Jerry’s distributor). Civic boosters have long railed against buying books from Amazon at the expense of local bookstores. Why not subject digital entertainment to the same scorn?

Several of the laws are being challenged. It’s not encouraging that Netflix is being regulated under a utility tax in California, under a sales tax in Pennsylvania, and under an amusement tax in Chicago. (Alabama briefly tried to regulate digital services under a rental tax.)

It’s the same problem we keep encountering with the regulation of virtually every startup: Business changes fast. Old laws don’t really fit. “There is no good reason to exempt digital goods and services whose tangible counterparts are taxed,” Michael Mazerov wrote in a report for the Center on Budget and Policy Priorities in 2012. “These tax exemptions exist not for any policy reason but rather because sales tax laws and regulations have not been updated to reflect the Internet age.”

If cities and states do want to find a way to subject home entertainment to the same costs as in-person activities, they should probably do so explicitly.